Sri Lanka's central bank cut its benchmark repurchase rate by 50 basis points to 6.50 percent because the favourable outlook for inflation had made room for a further easing of monetary policy to stimulate the economy and thus reach a higher growth trajectory in 2014.
The Central Bank of Sri Lanka has now cut its repurchase rate by 100 basis point this year following a rate cut in May and also cut its reverse repurchase rate by 50 basis points to 8.50 percent.
The central bank cut its rate by 25 basis points in December last year and economists had expected the central bank to keep its rates steady today. However, in July the bank's governor had said that monetary policy was likely to remain on hold until September or October when he would be a little more inclined to relax the policy if inflation continued to fall.
Sri Lanka's inflation rate eased marginally to 6.2 percent in September from 6.3 percent in August while core inflation fell to 3.0 percent. Inflation has remained in single digits for the last 56 months.
"Going forward, the inflation outlook continues to remain favourable with restrained international commodity prices, reduced domestic supply side pressures, and well contained demand driven inflationary pressures," the central bank said.
The central bank aims for inflation to fall to 5.0 - 5.5 percent by the end of this year for an average rate of 7 percent.
The bank added that broad money growth in August was in line with its projections, "indicating that the current monetary conditions could support higher growth in the second half of 2013."
Lower credit obtained by public corporations during August is expected to continue and thus release resources for private sector investments, the bank said, adding the easing of policy since December had resulted in a "reasonable" downward adjustment in short term interest rates, with space for further adjustments in longer term lending rates.
Sri Lanka's Gross Domestic Product expanded by an annual 6.8 percent in the second quarter and the central bank said the reduced borrowing costs have encourage private sector investment and this should enable the economy to exceed a 7 percent growth rate this year.
Previously, the central bank has forecast 7.5 percent growth this year while the International Monetary Fund has forecast growth of only 6.3 percent, slightly down from 2012's 6.4 percent.
But while the central bank was largely optimistic about Sri Lanka's economy, it voiced concern over the global economy.
"The heightened uncertainty arising from the delay in announcing tapering of the quantitative easing (QE) by the US Federal Reserve, coupled with the current political impasse experienced by the United States, resulting in a government shutdown and inability to increase the debt ceiling has also increased market volatility," the bank said.
Nevertheless, Sri Lanka's gross official reserves reached 7.0 billion in August - the equivalent of 4.5 months of imports - and the trade account deficit narrowed by almost 25 percent due to higher export earnings and lower imports, easing the pressure on the current account and balance of payments.